Coin Metrics' State of the Network: Issue 111

Tuesday, July 13th, 2021

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The State of the Network Q2 Wrap-Up

By Nate Maddrey and the Coin Metrics Team

After a strong start to the year, the second-quarter of 2021 was headlined by a crypto-wide crash. But despite the crash, many assets finished the quarter in the green. In this special edition of State of the Network we take a look back at the biggest storylines of Q2, 2021.  

April Boom

It was a big quarter for Ethereum (ETH), finishing up by 13.2%. Opening April at $1,971, ETH surged to a new all-time high of $4,155 on May 11th before the markets came crashing down.

ETH benefited from a renewed surge of retail interest which was partially driven by the rapid rise of NFTs. Although NFT media interest peaked in March, it helped bring unprecedented mainstream attention to Ethereum which led to a flood of new users. 

While cryptoart trading volume has since cooled off, the broader NFT ecosystem continued to grow in Q2. NFT marketplace OpenSea recorded it’s biggest month ever (in terms of sale volume) in June thanks to a boom in NFT avatars as well as projects like Art Blocks.

Source: Google Search Trends

Thanks to the retail surge, the amount of addresses holding at least 0.1 ETH grew from 4.58M to over 5.20M in Q2. 

Source: Coin Metrics Network Data Charts

Many ETH adjacent tokens also did well during Q2. MATIC, the native token of Ethereum scaling solution Polygon, finished the quarter up 227%. Ethereum competitors like Cardano (ADA) and Solana (SOL) also finished the quarter in the green. Ethereum Classic (ETC) even got in on the act, closing the quarter up 297%.

In addition to ETH, Dogecoin (DOGE) and other meme coins peaked on May 11th. Fueled on by Tweets from Elon Musk, DOGE exploded in Q2 2021, closing the quarter up 391%. This rapid growth is also reflected on-chain. The number of addresses holding at least 1 DOGE increased from 3.09M on April 1st to over 3.7M on June 30th.

Source: Coin Metrics Network Data Charts

Collectively, smaller-cap assets reached new peaks in May. As a result, Bitcoin dominance fell to its lowest levels since July 2018.

Source: Coin Metrics Network Data Charts

May Crash

Then, on May 12th, things suddenly changed. 

First, Tesla announced that they would no longer be accepting BTC as payment. While this news initially spooked the market, even more devastating news soon followed as reports started to surface that China was cracking down on Bitcoin mining and trading. Although China has a long history of crypto regulations these new regulations appear more severe than previous iterations. On May 19th, after price unexpectedly dropped below $40K, BTC experienced a liquidation cascade that caused price to plummet close to $30K. 

Source: Coin Metrics Reference Rates

Propped up by record high levels of leverage the markets were in a precarious position before the crash. BTC open interest on Binance, BitMEX, Kraken, Deribit, FTX, Huobi, OKex reached over $4B in late April, indicating that there was likely high amounts of leverage in the system.  Further complicating things, a big difference between this cycle and the 2017 run was the ability to use leverage on projects outside of the top 10. Thanks to burgeoning derivatives infrastructure some smaller-cap assets saw relatively high amounts of open interest which likely contributed to the sudden crash. 

Source: Coin Metrics Market Data

Miner Migration

China’s crackdown on miners has started an unprecedented Bitcoin hash rate migration. Faced with sudden bans Chinese miners are in the process of relocating and setting up their operations abroad in more crypto friendly territories. Although it remains to be seen exactly where they end up settling, there’s reportedly been a large influx of interest for North American mining hosts, especially in places with cheap, renewable energy like Texas. Other miners are eyeing locations closer to China like Kazakhstan or other destinations in Eastern Europe or Central Asia. 

Signs of the miner exodus became apparent on-chain May 18th when the amount of BTC sent by miners spiked to its highest level since March 2020. As news of impending crackdowns rolled in many miners likely transferred their BTC to either sell or self-custody, resulting in the spike.

Source: Coin Metrics Network Data Charts

This miner migration has caused Bitcoin’s hash rate to drop in the short-term. Hash rate dropped by 50% in Q2, dropping to its lowest level since late 2019. The following chart (created by @TakensTheorem) shows hash rate annotated with China regulatory events. Ethereum’s hash rate has also fallen as miners have left the country due to the uncertain regulatory climate.  

Source: TakensTheorem

Hash rate should eventually recover once miners start to power back up in their new locations. However it won’t happen overnight since it will take time to build and set up enough facilities to accommodate the sudden influx of new demand. 

Although hash rate is down the Bitcoin network was designed to be able to withstand sudden drops in hash rate. Bitcoin difficulty automatically adjusts every two weeks to keep producing Bitcoin blocks at a target of every 10 minutes. Bitcoin difficulty decreased by about 28% on July 3rd, which is the largest downward difficulty adjustment in Bitcoin’s history.

Source: Coin Metrics Network Data Charts

Over the long-term this mass migration should be largely beneficial as it will help Bitcoin hash rate get further distributed around the world, and remove the previous concentration in China. It could also help improve Bitcoin’s environmental impact since miners in some regions of China relied on coal.

Changing World

The migration out of China of both miners and investors will significantly reshape the global dynamics of bitcoin but it’s not the only place in the world where the relationship with BTC is changing. 

In June the El Salvador congress passed a bill officially making bitcoin legal tender. A pivotal moment for bitcoin and crypto at large, El Salvador is now the first country to recognize BTC as a satisfactory form of payment for any form of monetary debt. While it will take some time for El Salvador’s experiment to play out, bitcoin adoption around the world is undergoing one of its largest transformations to date.  There will undoubtedly be more pushback and challenges as El Salvador begins to adopt BTC on a larger scale. But if El Salvador’s experiment goes well, this could be a turning point for large-scale BTC adoption around the world. 

Coin Metrics Updates

Q2 was also a big quarter for Coin Metrics:

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